Mechelany Advisors'CHINA DEEP VALUE PORTFOLIO was launched on Jan 1, 2021 to capitalise on what Mechelany Advisors' sees as a MAJOR SECULAR ENTRY POINT in some of China's corporate giants. The portfolio is structured to generate 8 % gross dividend yield per annum and benefit from a unique potential for long term capital appreciation due to the exceptional value these stocks offer at the moment.
As our regular readers know, we have been advocating for a couple of years now that the 2020’s would be the decade of China and that COVID-19 pandemic set the stage for China to make a quantum leap in its race to become the world dominant economy.
Indeed, China will be the only economy of the world to experience positive growth in 2020 and achieve close to 8 % growth in 2021. The IMF just revised its projections and expects China to surpass America in nominal GDP terms by 2028, or 5 years earlier than initially expected.
We have also advocated that we would soon see a MAJOR STRUCTURAL SHIFT in global portfolios, out of overvalued US assets and into undervalued Chinese assets.
This has already started in 2021 with the Chinese CSI300 index outperforming the US Dow Jones and SP500, and the Yuan rising by 10 % against the US dollar, starting the secular phase of appreciation that we anticipated.
Two other developments of 2020 have opened a significant, and in our view, short lasting window of opportunity to accumulate strategic positions in extremely undervalued Chinese corporate giants :
1. In 2020 the political turmoil in Hong Kong led China to clamp down on the autonomous territory and that led Hong Kong-Listed Chinese shares to trade at a deep discount to their domestic equivalent.
Now that China has taken political control of the Special Administrative Region, the Chinese Government is taking steps to boost and integrate the Hong Kong economy into its mainland hinterland. In October, strategic plans to develop the Shenzhen Financial and technology hub were unveiled with the stated objective of fully integrating Hong Kong financial markets. This should lead to a compression and, probably, disappearance over time, of the discount of H-shares over A-shares with a significant embedded upside potential.
Moreover, the 10 % appreciation of the Chinese Yuan from 7.20 to 6.5 against the US Dollar in 2021 made Hong Kong-listed Chinese stocks an additional 10 % cheaper relative to their domestic counterparts.
We do not exclude the possibility in the coming two years of a de-pegging of the Hong Kong Dollar from the US Dollar and a gradual appreciation of the former towards parity to the Chinese Yuan.
After political and financial integration, this would enable a new pegging of the HKD to the CNY completing a monetary integration of the Special Administrative Region.
Premium of the A-Shares over the H-Shares at the highest in five years
The HSCEi index also has an extremely attractive configuration and is one of the cheapest equity markets in the investable universe. In 2021, We expect the HSCEI to break out of its long-term consolidation triangle and experience a significant re-rating.
2. In the last few weeks of his Presidency, Donald Trump issued an executive order banning US investors from investing in 60 Chinese Government-related corporations, forcing US pension funds, endowment funds and index managers to liquidate their holdings. The NYSE is proceeding with the delisting of these shares, and that will ultimately force international investors to turn to the Hong Kong-listed shares to build their exposure
The sharp fall in these companies’ share prices since November 12th 2020 has nothing to do with deteriorating fundamentals but with a one-off liquidation phenomenon ahead of the January 11th 2021 binding date of the executive order, hence the window of opportunity
Since November 12th 2020, many of those corporations have seen their share prices fall by 30 %, taking their valuations to levels not seen in a decade or even in some cases since 2003. Once this liquidation phenomenon ends on January 11th, the selling pressure will abate, leaving no sellers left. We also expect the Biden administration to ultimately soften the US stance on these corporations. Until now, China has exerted muted retaliation, in the hope of a defeat of the Trump administration. It will probably show less patience if the new US Administration does not revert what it sees as unjust and illegal sanctions, with the potential to create lasting impediments to the presence of US corporations in China, let alone their holdings of US$ 1 trillion of US Government debt.
At Mechelany Advisors, we are deep value investors and we have rarely seen so much value appearing in equity markets, with world-class corporations trading at deep discount to their book values, historically low P/E ratios and Price to Sales, and high dividend yields for businesses that have extremely stable businesses and cash-flows. All these companies boast double digit earnings yields, the most powerful metric when analysing value.
One of the best illustration of the current valuation disconnect is a comparison between BAIC Motors, which sells 2.5 million vehicle a year of which more than 100’000 Electric vehicles, and TESLA, which sold only 499’000 vehicles in 2021 and never made a profit on its vehicle business, by looking at two metrics; Price to Book and Price to Sales.
TESLA is trading at 25x Sales while BAIC is trading at 0.1x sales
TESLA is trading at 41.7x Book Value while BAIC is trading at 35 % of its book value
Surely, producing and selling Mercedes Benz cars in China is less exciting in the eyes of Millenium investors, but Mercedes is quickly evolving toward EV and China is Mercedes-Benz’s biggest market and China is the world’s largest market for Electric vehicles, so we’d rather bet on BAIC Motors.
Finally, the companies included in our CHINA DEEP VALUE PORTFOLIO generate US$ 700 Billion in annual sales and have an aggregate US$1.15 trillion net asset value.
Their business mix makes the portfolio a core and leveraged exposure to China’s economic growth in the coming decade.
This is why we are starting 2021 with our
CHINA DEEP VALUE PORTFOLIO.
In a global environment of extremely low interest rates and bond yields,
. securing 8 % gross dividend yields, growing every year,
. paid by top quality companies, operating in the world’s largest consumer market and the fastest growing economy of the world,
. with significant capital gain potential due to the cheap entry point
should not be missed in our views.
The Mechelany Advisors CHINA DEEP VALUE PORTFOLIO is replicated in TWO Index Certificates issued by EXANE to allow our readers to invest conveniently in this exceptional portfolio. One of the certificates will be a plain vanilla long portfolio yielding a gross 8 % income yield plus capital gains. The second certificate will use a 1 to 1 leverage to increase the returns and the capital gain potential, securing a 15 % income return.
Mechelany Advisors’
CHINA DEEP VALUE PORTFOLIO
The portfolio was constituted with an initial capital of US dollars FIVE Million with the closing prices at 31 Dec 2020 as a reference.
Based on Bloomberg’s Dividend forecast for each and every stock invested in, the USD 5’000’000 portfolio generates US$ 403’000 of gross annual income or an 8.1 % dividend yield.
OUR 10 CHINA DEEP VALUE INVESTMENTS
1 – China Communications Construction Company 1800 HK BUY @ HKD 3.35
CCCC is one of China’s most prominent construction and infrastructure companies with close to US$ 100 Billion in annual sales growing at 6 to 8 % per annum and supported by the Government massive infrastructure investments.
It employs 125’000 people and is a major Government contractor in the Belt and Road Initiative as well as in many emerging Economies.
CCCC’s stock price trades at a 10-years low despite having increased by 50 % in size over the past 5 years.
CCCC H-shares trade at valuation levels never seen in its entire history, with a P/E ratio of 2.56x, 23% of book value, 10 % of sales and a phenomenal earnings yield of 21 % per annum.
As all Chinese State owned corporations, CCCC has a very stable dividend and payout history and is currently offering 7.6 % gross dividend yield.
2 – China Power International. ( CHINA POWER ) 2380 HK BUY @ HKD 1.66
China Power is China’s third largest Power generation company developing, constructing and operating power plants across China in all the major sources of energy, with strong growth in renewable energies.
it is headquartered in Beijing, employ 10’000 people and generates US$ 5 Billion in annual sales growing at 10 % per annum.
The stock price lost 75 % of its value since 2015 and is now trading at levels last seen in 2008 and 2010, with a clear indication that the bottom has been made.
Despite the drastic lockdowns and factory shutdowns, the company maintained its revenue flows in 2020 and should reach a new record in 2021, almost doubling its 2015 sales. Earnings per share have grown by 55 % in 2019 and should increase by another 30 % in 2021.
Valuation has NEVER been so low with a P/E ratio of 7.17x, a price to book of 46 % and an extremely attractive dividend yield of 8.6 %. Earnings yield is at 19 %
3 – BAIC Motors ( Beijing Automotive )
1958 HK BUY @ HKD 2.87
Beijing Automotive is China’s fourth largest automaker selling 2.5 million vehicles per annum with a strong presence in SUV, Electric Vehicles, buses, industrial vehicles, military and agricultural vehicles.
It produces and sells Mercedes-Benz and Hyundai cars in China through its joint ventures.
Headquartered in Beijing, it employ 27’000 people and generates US$ 30 Billion in sales
China’s auto sector is in strong recovery and should grow at 15 % in 2021 delivering more than 30 million vehicles that year, or almost twice the entire US auto market.
BAIC’s presence in the high-end luxury car segment through Mercedes and its own brand gives it an exposure to the strongest growth and highest margin segment of the market.
BAIC is also clear leader in EV with its very popular Electric SUVs and its new concept super car subsidiary.
The stock price trades at its lowest level EVER with clear signs of bottoming out.
Despite COVID-19, the company will see stable sales in 2020 and is expected to grow revenues by 8 % in 2021, while still profitable in 2020 and generating 33 % earnings per share growth in 2021.
Valuations have NEVER been so attractive at 6.8x earnings, 41 % price to book and 6.5 % dividend yield that are not pricing in the recovery of the auto market in 2021. An expected earnings yield of 19.1 % makes the investment stand out with an exceptionally low payback period of 5 years.
4 – China Telecom
728 HK BUY @ HKD 2.15
With 325 million mobile subscribers, 200 million landlines and 150 million G5 mobile subscribers, China Telecom is China’s second largest telecom operator.
China Telecom is one of the key players in China’s hyper developed telecommunication and infrastructure industry and one of the largest telecom operators in the world.
In 2020, it officially launched 5G commercial services in 50 Chinese cities offering services to individuals, households, government and enterprise customers and simultaneously rolled out government and enterprise customers-oriented 5G services based on SA architecture in Shenzhen
The company is headquartered in Beijing, employs 285 000 people and generates US$ 61.5 Billion is sales.
The stock is trading at the lowest level since 2003 and the bottom of the 2008 great financial crisis, providing a phenomenal entry point.
China Telecom profits are remarkably stable over the years, testifying of the effective execution by China Telecom in the sectorial trends of eroding margins in telecoms. However, the rolling out of 5G added value services should boost the sector’s earnings in the coming cycle.
Valuation is extremely undemanding and the stable 5.8 % dividend for a 41 % book value makes it an attractive core holding in any global portfolio. China Telecom boasts a 14.4 % earnings yield.
5 – China Mobile
941 HK BUY @ HKD 44.20
As the leading telecommunications services provider in the mainland of China, China Mobile is also the World’s largest mobile operator.
As of 30 Nov 2020, the Group had 456,000 employees, 950 million mobile customers, 150’000 5G subscribers and 210 million wireline broadband customers.
The Group provides full communications services in all 31 provinces, autonomous regions and directly-administered municipalities throughout the mainland of China and in Hong Kong.
With expected revenues of US$ 120 Billion in 2021, China Mobile is the world’s largest telecom operator by revenues. It also has the world’s largest network and customer base.
Its corporate credit ratings are equivalent to China’s sovereign credit ratings, namely, A+/Outlook Stable from Standard & Poor’s and A1/Outlook Stable from Moody’s.
Its shares lost 64 % of their value since the 2015 peak and are trading at levels last seen in 2005, despite revenues having doubled since 2009.
China Mobile trades at 7.2x earnings, THE LOWEST P/E EVER in its entire trading history and a 42 % discount to its Book Value, there again the lowest metric ever recorded in its history. With earnings yield at 14.3 % and the potential boost to growth of the new 5G cycle, Its dividend yield of 7.4 % is more than assured.
6 – China Minsheng Banking Corp
1988 HK BUY @ HKD 4.42
China Minsheng Banking Corporation Limited is China’s first national commercial bank founded and privately owned by non-state-owned enterprises.
As at the end of June 2020, total assets of the China Minsheng Bank group amounted to US$ 1.2 Trillion, revenues for 2021 are expected to reach US$ 32 Billion and profits 7.8 Billion.
The Bank operates branches in 41 cities across China, with 2,427 banking outlets. It employs 55’000 people.
According to The Banker, in 2020, China Minsheng Bank was ranked 23 largest bank in the world and stood at No. 239 in the Fortune global 500 companies.
In June 2020, its Non-performing loan ratio was 1.69 % and provision stood at 152 %
Since the 2015 peak, its stock price lost 60 % of its value and is trading at one of the lowest absolute levels in 10 years.
In 2021, the bank’s revenues will reach a new record and its earnings per share should recover to 2018’s levels.
At 3.2 x earnings, 69 % discount to book value and a dividend yield of 9.2 %, China Minsheng is trading at the lowest valuation metrics ever, despite being a main and leveraged beneficiary of China’s strong economic growth in 2021.
7 – China Railway Construction Company
1186 HK BUY @ HKD 4.24
CRCC is one of the world’s most powerful and largest integrated construction group, ranking the 54th among the Fortune Global 500 in 2020, and the 14th among the China 500 in 2020
It ranks 3rd among ENR’s Top 250 Global Contractors in 2020. It is also one of the largest engineering contractors in China.
CRCC engages in project contracting, survey design consultation, industrial manufacturing, real estate development, logistics, trade of goods and materials as well as capital operations.
CRCC has developed from a construction contracting company into a complete and comprehensive industrial chain of scientific research, planning, survey, design, construction, supervision, maintenance and operation, making it a highly efficient one-stop shop for mega-infrastructure projects in China and abroad.
CRCC has established its leadership position in project design and construction fields in plateau railways, high-speed railways, highways, bridges, tunnels and urban rail traffic. As such, it is a major beneficiary of China’s massive infratucture plans for 2021.
CRCC stated strategic objective is to become China’s construction industry leader and the world’s largest and most competitive construction group.
The company employs 293’000 people and will achieve a record RMB 1 Trillion ( US $ 152 Bln ) in revenues in 2021.
Donald Trump’s sanctions have led the stock price to half in 2020. It now trades 75 % lower than in 2015 and at the lowest level since 2011.
Besides double digit growth in revenues, the company’s Earnings per Shares will grow at double digit rates in 2020 and 2021 reaching a all-time high with a 70 % increase in the past five years..
Valuation is amazingly low and at levels never seen before.
With a P/E at 2.7x, a 78 % discount to book value and an amazing earnings yield of 24.4 %, CRCC is probably one, if not THE cheapest company of the world’s top 500 companies.
8 – China Merchants Ports Holdings
144 HK BUY @ HKD 9.49
China Merchants Port is China’s largest port developer, investor and operator with investments in China, but also a large presence in the rest of the world.
Its port network includes coastal hub ports in Hong Kong, Taiwan, Shenzhen, Ningbo, Shanghai, Qingdao, Tianjin, Dalian, Zhangzhou, Zhanjiang and Shantou.
CMPort has also expanded worldwide and it portfolio spans 41 ports in 25 countries. It is present in South Asia, Africa, Europe and South America and is a major beneficiary of China’s Belt and Road initiative.
With the spreading of vaccines and the global world economic recovery expected for 2021, trade and maritime traffic are set to recover strongly, fully benefitting CMPort’s operations.
The Company employs 7’800 people and will generate US$ 1.5 Billion revenues in 2021 with a strong 44% net margin.
CMPort share price trades at levels last seen in 2003, lower than at the bottom of 2009 and 85 % lower than at its 2007 peak. The share price is clearly bottoming out.
Donald Trump’s Trade War and Covid-19 both had a significant impact on world trade causing CMPort revenues to fall by 12 % in 2019 and another 1.5 % in 2020.
However, revenues should climb back significantly in 2021. Earnings per shares should grow 25 % next year.
With a new US administration, the signing of the Asian RECP trade agreement and a strong economic recovery in China in 2021, CMPort should experience a Goldilocks environment for the next few years.
CMPort is trading at historically cheap levels, paying an 8 % dividend yield with 12 % earnings yield while trading at 57 % discount to book value.
9 – Agricultural Bank of China
1288 HK BUY @ HKD 2.84
Agricultural Bank of China, also known as ABC or AgBank, is one of the “Big Four” State-owned Chinese banks. It was founded in 1951, and is headquartered in Beijing.
Since the late 1970s, the Bank evolved from a state-owned specialised bank to a global commercial bank serving individual and corporate clients across China.
With 487’000 employees, in excess of 30’000 branches and more than 400 million clients, ABC is China’s 3rd largest bank, the 4th largest bank in the world and the 5th largest corporation in the world according to Forbes.
In 2021, ABC is expected to generate a record RMB 700 Billion ( US$ 108 Billion) in revenues, and US $ 31 Billion of profits on a total asset base of US$ 4.17 Trillion, or twice the size of the Italian economy.
As one of the most integrated financial service providers in China, AgBAnk provides corporate and retail banking products and services and conducts treasury operations and asset management. Its business also includes, investment banking, fund management, financial leasing and life insurance.
COVID-19 had a considerable impact on the banking system, forcing banks to increase their provisions for bad loans significantly, causing earnings and share prices to crater in 2020, explaining the fall in bank shares. However, the increase in non-performing loans has been more than matched by the 150 % provisioning practices of Chinese banks.
The Bank’s issuer credit ratings assigned by Standard & Poor’s were A/A-1, and the long-/short-term issuer default ratings assigned by Fitch Ratings were A/F1.
ABC stock price halved since the 2017 peak and now trades at the lowest since 2010
Revenues should rise by 8 % in 2021 and profits recover to their 2018 records as the pace of growth and provisioning of Non Performing Loans abates.
At 4.4 x earnings and 54 % discount to book value, the 7 % dividend yield offered by ABC is extremely attractive. Banks stand to be major beneficiaries fromChina’s strong economic recovery in 2021
10 – Bank of Communications ( BOCOM )
3328 HK BUY @ 4.10
Bank of Communications Limited, founded in 1908, is the fifth-largest bank in China and the 24th largest bank in the world.
Established in 1908 and headquartered in Shanghai, Bank of Communications is one of the oldest financial institutions a in China and is one of the few banks to have issued banknotes in modern Chinese history.
Bank of Communications runs 3,529 outlets in 239 large-and medium-sized cities. It has 21 foreign branches including banks or representative offices in Hong Kong, New York, Singapore, Seoul, Tokyo, Frankfurt, Macau, Ho Chi Minh City, San Francisco, Sydney, United Kingdom, Toronto, Luxembourg, Brisbane, Taipei, Paris, Rome, and Brazil.
Bank of Communications’ business covers commercial banking, securities, trust, financial leasing, fund management, insurance, and offshore financial services.
It employs 86’000 people and is expected to generate a record US$ 39.3 Billion revenues in 2021
BOCOM shares price trades at levels last seen at the bottom of the Financial crisis in 2009 and in 2006
After a a 10 % decline in 2020, BOCOM profits are expected to grow again in 2021.
BOCOM stock has never been that cheap, trading at 4x Earnings, 36% of book value, pays 8.5 % dividends and the company boasts a spectacular 23.3 % earnings yield.
Footnote on the Chinese Banking Sector
Three of our recommendations are in top-tier Chinese banks and investors are rightly concerned about the impact of COVID-19 on bank’s profitability.
At 2020 year-end, All five Chinese State-owned banks reported their biggest profit falls in at least a decade and an increase in soured loans when announcing their half-year results last week.
The results highlight the impact of the pandemic and the economic slowdown on Chinese banks as borrowers struggle to repay debt after months of lockdown and some sectors, such as those in the travel industry, labour to survive on lingering COVID-19 fears.
Amid the grind, China’s banks have been asked to step up and lend to flagging sectors while sacrificing profits in a bid to revive the country’s fortunes.
China’s five largest state-owned banks said they have increased their provisions against bad debt to brace for future losses due to the impact of the global coronavirus pandemic.
Agricultural Bank of China Ltd (AgBank) said “the lagging impact of the epidemic and the risk of uncertainty are expected to be further transmitted to the banking industry,” in its half-year results on Sunday.
China Construction Bank Corp (CCB), the country’s second-largest lender by assets, said it plans to assess credit risks and up provisions, just as Bank of China Ltd (BoC) said the same.
Even more directly, Bank of Communications Co Ltd (BoCom) said on Friday it had boosted “provisions to counter the future impact of the pandemic.”
Second-quarter loan-loss provisions were up 61% to 436% of loans qualified as being at risk compared to the same period last year at ICBC, CCB, AgBank and BoC, according to data from China International Capital Corp (CICC).
Chinese commercial banks overall posted a 9.4% drop in first-half net profit to 1 trillion yuan ($146.08 billion), according to data from the China Banking and Insurance Regulatory Commission.
The crater in first-half profit was mostly down to provisioning ordered by regulators, said CICC on Monday, noting that second-quarter profit would otherwise have been higher by 1.5% to 5.1% for those four lenders.
Net interest margins (NIM) – a key gauge of bank profitability – fell at Industrial and Commercial Bank of China (ICBC), the world’s largest commercial lender by assets, BoCom, CCB and AgBank. But at BoC, NIM improved slightly to 1.82% from 1.8% three months earlier.
AgBank’s ratio, one of the highest in China, fell to 2.14% at the end of June from 2.17% at the end of March, while at ICBC it narrowed to 1.98% at the end of the second quarter, from 2.2% at the end of the first.
Non-performing loan (NPL) ratios rose at the big five banks during the reporting period, with that of ICBC increasing to 1.5% by the end of June from 1.43% three months earlier, and that of CCB rising by 0.07 percentage points in second quarter to 1.49%.
By the end of the June quarter, the average non-performing loan ratio for commercial banks was at 1.94%, commission data showed, the highest since 2009.
As is the case with US banks, the worst of the crisis is now probably over and China’s extremely conservative rules for bad-long provisioning at a minimum of 150 % of NPLs, – against an average of 80 % in the West – provides for a solid cushion for the future.
Although we think it will take a couple of years for the damage from COVID to be cleared, the worst of the downside in bank’s profits is behind us and dividends should now be safe.
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